Will 2014 be a kinder, gentler year for Gap?

By Andria Cheng

Gap vs. S&P 500 over six months

Gap Inc. may have had a tough six-month streak, but things may be looking brighter for the largest U.S. specialty clothing chain.

The parent company of Old Navy and Banana Republic was upgraded to buy from underperform by Sterne Agee on Tuesday, sending the stock up as much as 4.2% in intraday trading. In the past six months, the shares had declined 17%, compared with the S&P 500′s gain of about 9%.

“We see a risk/reward that’s asymmetric to the upside,” said analyst Ike Boruchow. “Our (second-half) short thesis has played out.”

To be sure, even with his upgrade, the stock’s bull camp is still in the minority, as 28% of 32 analysts rank it as a buy versus 69% of analysts who rank it a hold, FactSet data showed.

“We observed incremental (year-over-year) promotions at all three” Gap key units over the weekend, said Kimberly Greenberger of Morgan Stanley in a report on Tuesday. At the Gap chain, “traffic likely remains challenging and we aren’t convinced the product is compelling enough to achieve full-price sell-through in the extremely value-focused environment.” She added broader promotions at Banana Republic may help drive traffic but at the cost of profit. At Old Navy, she also pointed to higher clearance sales.

Boruchow said the company’s expanding “omni-channel” capabilities also will help Gap to lift sales and lower discounts. Online sales could nearly double over the next five years to 20% of the company’s total by 2017, up from 14% in 2013 and 3% in 2003. Gap has been using its stores to fulfill and ship online orders. It also has introduced a reserve-in-store feature, which allows consumers to have an item they are interested in held at their local store.

“We believe all these initiatives can increase traffic, conversion, and full-price selling,” he said.

Since Gap’s North America real estate footprint peaked in 2007 with nearly 2,900 stores and about 37 million square feet, it has shut over 600 locations through 2012, Boruchow. But 2013 marked the year when Gap became a net square-footage grower for the first time since 2007, even though much of the growth came from international expansion and openings of its Athleta and Intermix chains. In the third quarter, Gap opened more North American stores under its Gap, Old Navy and Banana Republic brands than it had closed for the first time in many years, Boruchow said.
“With the North American store rationalization complete, we believe (Gap) can continue growing footage 2% to 3% annually,” he said.

Overseas generates about 25% of Gap’s sales, with China and Japan representing the bulk of the company’s international square-footage growth, the analyst said.

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About Behind the Storefront

Behind the Storefront is a blog about all things retail. It’s aimed at investors, shoppers and anyone else with a passion for learning about what drives consumer behavior. Hosted by Andria Cheng, Behind the Storefront will cover the business, brands and shopping behavior that’s behind some of the biggest companies, and largest employers, in the world. You can reach Andria at Acheng@marketwatch.com.